Monday, April 15, 2013
Posted by Polemic on Monday, April 15, 2013 with 25 comments
TMM are finally emerging from their Gold bear bunker, having decided two years ago that there was never ever any point in discussing the value of gold as it verged on religious resulting in a torrent of abuse from the spamchuckers that made it just not worth the bother. But this morning we have got to the point where it can't be ignored any longer as some are blaming it for moves in other assets.
Gold is back to 2011 levels and Silver has just broken through a support at 26.00 that, if you like horizontal support lines, has been the road over a sinkhole.
Anyone who has ever studied supply and demand Econ 1.0.1 will now be scratching their heads and looking for a conspiracy theory to explain away something that "shouldn't have happened" (just go and have a look at the Hero Zedger comments in any gold piece they have posted recently). At this rate the tin-foil beanie wearers will be able to afford silver ones But isn't it the biggest no brainer that if you print money then the value an asset of limited supply against that money has to rally?
Let's pose a question to our Econ 1.0.1 class in the style of "A Question of Sport's" "what happens next" round.
Presenter - "Japan, running out of options and seeing the success of US actions, opens the taps and announces it will print an incredible amount of money, vowing never to stop until it encounters inflation. So what happens next?"
Ex sports star - "Well Jpy takes in on the chin and hits the deck and gold goes to the moon and his shorts fall off"
Presenter - "Anyone else?"
Other ex Sports star - "Gold catches fire and runs up the pitch screaming whilst the yen crashes into the posts"
Presenter "No. Run the film and lets see what happens to gold in yen terms.."
So what's all that about then? TMM sees it as a lovely example of how theory disconnects from price via reality, in other words - TMM's price equation of Price = Theory + Reality (P = T + R) where reality is everything that isn't in the theory. Theory is all well and good as long as you have enough people believing in the theory, or more rightly willing to back the theory with their own money. Its all very "Bitcoin". It will go up whilst everyone believes it will go up, whether that is based in economic theory, technical analysis, or just straight forward herd mentality. But TMM like to think that the world is more complicated that Econ 1.0.1 and just as Econ 192.168.0.1 is doing for Bitcoin so Econ 79.197.1 is doing for gold. No matter how much of a fixed asset it may be it is reliant on a) everyone agreeing that it is a store of value and b) being better to hold than any other store of value, whether that is stocks, bonds, fiat cash or lumps or gallons of any other commodity.
But isn't gold an alternative currency? One of the requirements for a useable currency or money is that its value is predictable and has a low volatility. Pricing eggs in a currency that is wanging around in 10s of percents per day, whilst exciting for traders, is not conducive to reducing risk for shopkeepers or customers. The argument that a complete transition to the newer money would eliminate the volatility relies on 2 assumptions. First that things would settle down after transmission as currency supply steadies and second that a transition would be possible whilst high volatility exists. The European transition to the Euro was accompanied with a volatility that tailed to zero in the run up. Jumping straight to a Bitcoin or gold function with the current levels of volatility would be impossible. So obtusely, the very reason that Bitcoin (or Gold during its run up and collapse) could not replace existing currency is because of the very volatility that is responsible for its heightened visibility.
Isn't it a hedge against inflation? Well let's look at the chart below which is the US price of gold inflation adjusted.
We would imagine that a perfect hedge against inflation would see a flat line with the odd wobble as expectations get ahead of price. The chart above shows that they are hardly small wobbles and at current levels we would need to see 100% inflation or the price drop from these levels by a half to get back to the sort of eyeballed averages of $350 inflation adjusted. If the above chart implies expectations for inflation are already to be 100% over current price then there is an awful lot of room for inflation expectations to take off before the price has to budge.
Which leads us on to think about inflation expectations again and to wonder if we are seeing something that should worry the BoJ. Just when they have unveiled their nuclear bazooka, designed to spark the living fear of inflation into its populace, are we instead seeing a general market capitulation in the inflation trade? Commodities are off everywhere. Oil is down another 2.5% on the day and linkers are doing the same. Even the ultimate measure of usd/jpy is off 2.5% from its highs. Or is it the growth trade being unwound? The growth and inflation trades are to TMM (and obviously the BoJ) much as the interaction of magnetism and electricity are to each other. They are probably bound by a single Maxwellian equation combining the two, resulting in some Fleming hand gestures. In this case, the resultant force on gold is represented by an extended middle digit.
Where is this leading us? Corrective moves or a new phase? We have to say that our short term trading antennae are concerned that Asian time saw the biggest wash down in gold prices and Asian time zone rarely sets new direction and often sees blow off peaks or troughs. which causes us to pause before jumping in, but with Econ 1.0.1 having been taught a lesson in P=T+R we think it less likely for such trades to be as reloaded. In a way if this is either the US growth trade being lightened or the global inflation trade being lifted it is still very interesting as it is indicative of some sizable perception changes.
Our debate extends to where this leaves equities. On one hand we should have sectoral suffering as commodity producers fall but on the other hand the feedback loop of lower input prices is great for everyone elses' margins, which once again leads us back to preferring equities to much else. Having been left behind by the equity train since the start of Feb we are still hoping for a drop to buy on, hopefully that will be on a continued growth/inflation trade unwind. We do believe that ultimately policy WILL stimulate to the tipping point that will provide inflation. How do we know? Well they've told us haven't they? But that could be a long time off.
In the meantime there are a lot of 5 minute macro managers trying to reconcile money management issues with long term theory.